Editor’s note: This article was first published in January 2017. Munger is described in the present tense as vice chairman of Berkshire Hathaway; he died in November 2023. “His latest book” refers to The Tao of Charlie Munger (2017).
Although we always talk about Warren Buffett, we shouldn’t forget his second-in-command and right-hand man, the vice chairman of Berkshire Hathaway and a legend of the investment world in his own right. We are talking about Charlie Munger, whose five simple steps to getting rich we have already published, along with other articles on his views and advice.
Author David Clark has written eight books about Warren Buffett, including The Tao of Warren Buffett and the well-known Buffettology.
This time he surprises us with his latest book, The Tao of Charlie Munger, and we already have some points in which Clark himself explains some of the lessons he has learned from Charlie Munger.
1. The desire to get rich quickly is very dangerous
Everything takes time, and wealth, whether in business or in investing, is a process, not a leap. Many investors enter the stock market trying to outsmart it and trying to take advantage of the constant short-term fluctuations in share prices to get rich quickly.
If there is one thing you should know about the stock market, it is that in the short term the price will move because of events that have nothing to do with the real long-term value of the company’s underlying business. In other words, a company with a lot of upside potential may keep falling in the short term because the whole market is falling.
And as we all know, to make the most of those small short-term price swings we have leverage, which can help you build wealth in less time and with less capital. But if things turn ugly, leverage can also work against us. Just as we take on leverage looking for more profit, we can also end up with bigger losses if our “move” goes wrong.
As a rule, whoever keeps chasing quick riches usually finds permanent poverty.
That is why the investment philosophy of Munger and Buffett (Berkshire Hathaway) is not to take a leveraged position in a stock in the hope of short-term moves, because they know that a specific event such as 9/11 can cause huge losses in a matter of minutes.
Munger’s advice is to avoid leverage and to invest only in solid companies with plenty of room to grow over the long term.
The message in a nutshell: if you want the stock market to pay off, more value investing and less trading.
2. Knowing what you don’t know is more useful than being brilliant
Munger says you need to be more aware of what you don’t know, and then use that knowledge to stay away from businesses you don’t understand.
One example of Buffett and Munger’s wisdom came at the height of the tech bubble in the 1990s. Many well-known investors and investment funds started pouring money like mad into the fashionable tech companies of the time.
Munger admitted he didn’t understand those companies’ businesses, and that they weren’t able to analyse tech stocks, so Berkshire Hathaway decided to stay out of them completely. Most of Wall Street thought Buffett and Munger had missed the train, a train that was travelling at full speed.
In the end, the dot-com bubble burst, many fortunes were lost, and it was Buffett and Munger who turned out to be the brilliant ones. They didn’t want to board a train that was about to derail.
(See: What the internet looked like in 1995)
3. People try to be smart. Munger tries not to be an idiot, and that’s harder than people think
Munger works on the theory that the stock market is sometimes short-sighted, and drives down the price of shares that are worth much more, or that will tend to rise in value over the long term. In other words, with its intraday moves and short-term fluctuations, the market forgets to look at the underlying value of a listed company. And that is when you must not be an idiot, because that is where the returns in this business are found.
When Munger or Buffett see this situation, it is like buying 100-dollar bills for 20 dollars, so the idea is to invest large amounts of money and hold on for the long term, waiting for the company’s underlying business to lift the share price until the market reflects its value.
So you can try to be smart, but it would be rather stupid not to act when you see a good investment, a great business opportunity.
4. Sit on your ass with a long-term investment. You’ll save on fees and taxes
For Munger, if you make a long-term investment, simply leaving it alone and holding on to it has a clear advantage: the tax system gives you two or three extra percentage points a year, which is as if you were earning 2 or 3 per cent more a year on your investment.
Munger argues that constantly buying and selling shares means paying more in fees, and also being taxed by the tax systems of most countries. If, on the other hand, you buy shares and hold them for 20 years, you will most likely not pay a single cent of tax on that investment during those 20 years, which is equivalent to an extra 2 or 3 per cent a year in returns, because, as the saying goes, “a penny saved is a penny earned”.
5. If you want to catch good fish, wait for the barrel to be drained
Munger thinks the stock market’s short-sightedness sometimes serves up investment opportunities so clear that it is very hard to miss them. This happens above all when investors panic and flee the market, selling all their shares, including those with great growth potential.
It is as if good stocks were fish in a barrel. When investors flee, the barrel drains, and so Munger can see the fish inside more clearly.
This is where the famous saying “be fearful when others are greedy and greedy when others are fearful” comes from, which we can simplify to “buy when everyone is selling”.
See also: How Warren Buffett multiplied his money tenfold in 1963
Featured image: Emma Pease, CC BY-SA 3.0, via Wikimedia Commons.
